Will The United States Default?

There are three views on whether the US will default on its government debts. The first is: Hopefully yes, and this August offers a good opportunity. The second is: Possibly yes, but this would be bad – so we need some form of fiscal austerity. The third is: Under no circumstances, and any talk of a need for austerity is a hoax.

The first view is mistaken. The second view hides a dangerous contradiction. And the third view borders on complacency. How can we find our way to fiscal responsibility? We need tax reform.

People in the first camp think that the US government has become too big and the only way to cut it down to size is to limit its ability to borrow. A constitutional amendment to limit the size of government relative to GDP or to require a balanced budget could work – but experience suggests there are always ways for a future Congress to escape any such constraint.

A big part of the underlying problem is that the world has a taste for US assets – foreign citizens like the ability to buy and sell dollars in liquid markets, and they are particularly fond of US government debt as a place to keep their rainy day money. Private investors and government wealth managers around the world wring their hands about the trajectory of US deficits and debt – and then buy more of that debt.

In one interpretation of this view, the only way to remove the ability of the federal government to borrow is to actually miss some payments – thus convincing the financial markets that the government is not really a good credit risk.

This thinking is part of what explains the strategy to threaten not to extend the debt ceiling for the federal government. Defaulting on debt is an all-or-nothing enterprise, as the Greeks are finding out – doing just a little default is really not possible. And the consequences of the US defaulting would be severe, not just for world markets but also for the ability of every American business and household to borrow, lend, or make just about any financial decision.

Threatening to blow up the current government debt system is not a credible threat – unless you sincerely believe that this would be a good thing ultimately for all concerned. From the Joint Economic Committee hearing that I attended in June, my distinct impression is that some leading members of Congress are leaning this way. In upcoming votes on raising the debt ceiling, we’ll find out how many members of the House of Representatives strongly share such views.

The second camp represents the mainstream of American politics today – genuinely worried about future insolvency, both sides of the aisle propose ways to cut future budget deficits. From the Republican side, people prefer spending cuts; while the Democrats would rather raise taxes.

Everyone in this camp fully intends to allow the government to pay its debts. But increasingly it appears that some on left or right might be attracted to the idea of a “government shutdown”, at least for a while – assuming that they can effectively blame the other side.

The point is not to change the nature of government or its ability to borrow this August, but rather to position ideas and personalities for the 2012 presidential election. The government will be able to make its debt payments but only if it does not pay wages or keep other “nonessential” parts of government functioning.

The good news is that mainstream politicians are increasingly talking about budget constraints and the need to live within our means.

The bad news that these same people extended the so-called Bush tax cuts at the end of 2010 – at a stroke not just refusing to deal with the deficit but also significantly contributing to what they now say is our most pressing problem. The net impact on debt in 2018, relative to what it would have been otherwise, is an increase of $3 trillion – according to the CBO, in that year nearly a quarter of total outstanding federal debt will exist because these tax cuts were extended last December. (In these pages, James Kwak and I have made the case for opposing the extension: http://economix.blogs.nytimes.com/2010/08/12/the-bush-tax-cuts-and-fiscal-responsibility/)

The gap between rhetoric and actual policy actions within the mainstream is not closing for either political party. And the presidential election is unlikely to help very much. The Bush tax cuts are up for renewal in 2012 – are any candidates likely to run on the platform of not extending them?

The third position is that the US cannot default on its debts. There are various explanations, mostly having to do with the fact that long-term interest rates are currently at their lowest in 50 years. Clearly someone is happy buying US government debt.

But how long will this continue? Will foreign investors, for example, seek to shift out of dollars in the foreseeable future – perhaps because the euro becomes more appealing?

And if the Federal Reserve steps in to buy up whatever government paper is not wanted by private participants, this surely can become inflationary.

We have put our head into the mouth of the financial markets lion. Ask Greek, Ireland or Italy what happens when that lion suffers a mood change.

None of these three views discusses tax reform, except in passing. Left and right agree that as a country spend too much relative to our income. It would make sense, therefore, to find ways to tax consumption more and income less.

This could be done in a way that is not regressive, i.e., does not punish people at the lower end of the income scale – keep in mind that some of the most progressive tax systems in the world are based in large part on consumption taxes.

This tax reform could support a smaller government or a larger government – the size of government is a good debate to have but, with a stronger tax base, it is an issue that can be completely separated from whether our current and future deficits can be sustained.

50 responses to “Will The United States Default?”

“Left and right agree that as a country spend too much relative to our income. It would make sense, therefore, to find ways to tax consumption more and income less. ”

While the first sentence is true, the second one is not directly related, and is certainly not a valid conclusion. The first sentence talks about our COUNTRY’S income and spending, the second about the TAXPAYER’S personal income and spending.

What do you think about the value of Rep Jan Schakowsky’s “Fairness in Taxation Act” bill?

The U.S. retains the privledge of printing the dollar, the global reserve currency.
Many ‘empires’ in the past also retained that priveledge.
The Romans elite basically had the eastern provinces produce food,clothing etc and send it to Rome while they didn’t send any goods or servcies to the provences. So they ran huge trade deficits with the provences.
They were able to maintain this situation because they had the privledge of printing the global reserve currency then ‘the Roman coin’. They just printed Roman coins to send to the provences to pay for the work done.
The U.S. have recently been making their own ‘Eastern provence’ of China do all the work while they run huge trade deficits. They just printed trillions of dollars to maintain this situation and pay for the work done in China.
The issues in Roman times started when the eastern provences started to be notice the lack of value of the Roman coins due to the continual printing of new coins.
China has noticed the lack of value of the U.S. dollar due to the continual printing of U.S. dollars. If you look at the price of commotidites you will see that the U.S. dollar has lost much of its value.
All Empires started their ‘global’ currency system (with them at the printing presses) immediatly in the aftermath of winning important wars. The U.S. started theirs after WW2.

It really is an unfair situation where 1 country has the priveldege of printing the global reserve currency. Even moreso when that country is at war or its elite cannot behave responsibly.
Mr Keynes wanted a 1 world currency at Bretton Woods for this very reason. Britian needed loans to rebuild after WW2, the U.S. had the money. So Mr. Keynes had to concede.
It would be much fairer if, like Mr. Keynes envisioned there was a one world reserve currency. This could be administered by a non-profit body like the U.N. or an IMF with a farier structure and a meritocracy.
If this was the case then the U.S. would certainly have to get its fiscal house in order.

For the meantime its simple for us Europeans who live in a social democracy to suggest fiscal policy to out U.S. friends.
Increase taxes on the wealthy.
Don’t cut back on services, especially health or education.

This just shows the vicious circle politicians live for. Since the year 2000 many pork laden bills were passed religiously on the belief that the Bush tax cuts would expire at the end of 2010 or there would be hell to pay.

Along comes a few stooges to create a crisis in 08 and find any way to force an economic recovery on the country. Among those being another extension of the Bush tax cuts, these cuts were the only mechanism to start to balance the books and keep the full faith and credit of the USA in foriegn creditors eyes. Add some natural disasters, the American talaban, continued costly wars and the deficits don’t matter crowd (elderly war guards) to the melting pot and your only mechanism fades from view. Desperation sets in and as long as we can raise the debt ceiling its game on to pass the torch to the next bullwinkle and rocky participants.

If it were allowed to continue it would feed off itself in order to continually pass the torch. For now the greed only feels alittle resistance to which it pushes back with all its might, and threatens its power over you in the name of verification of it laws and beliefs, as troublesome as they may be. So juggle and drive in circles knowing there is always another clown to continue the circus show.

You can’t blame the left for this. Pelosi didn’t threaten to default back in 2007. This is 100% a right-wing project, and centrists are happy to play along. Only the left is being responsible here. SJ might as well be David Broder with this schtick.

Spending reform must happen before tax reform happens. Tax everyone you want as much as you want but it will always come back to the government has promised too many “entitlements” that it can not afford (Social Security,Medicare, Obamacare to start with). As American citizens we are not entitled to anything except for the liberty and freedom to make it on our own.

I think you nailed it when you wrote: “The point is not to change the nature of government or its ability to borrow this August, but rather to position ideas and personalities for the 2012 presidential election.”

It’s all political theater at the moment.

As far as tax reform, I don’t think it’ll ever happen though we certainly need it. With over 50% of the population getting freebies and not paying tax you’ve got a huge voting segment that influences and empowers certain elected officials to not go the route of reform. That and the internal employees of the IRS.

“This could be done in a way that is not regressive, i.e., does not punish people at the lower end of the income scale – keep in mind that some of the most progressive tax systems in the world are based in large part on consumption taxes.”

Could you provide an example of this? I’m genuinely curious how one would construct such a system.

I am sure Obama will do whatever is best to further his chances of reelection. Yesterday, for instance, he told Republicans that he is willing to cut medicare and social security in exchange for raising taxes on the wealthiest Americans. Obama doesn’t stand for anything except himself. It looks like he will treat medicare and social security as he did the public healthcare option.

“With over 50% of the population getting freebies and not paying tax …”

Wrong. The figure you are bandying about here refers only to the Federal income tax. These people still pay payroll taxes (if they are employed), sales taxes, etc. Go look at the figures. The tax burden on the poor in this country is enormous–it just doesn’t happen to be in the Federal income tax. In fact, I believe some months ago James Kwak posted on this blog figures showing how the US income inequality pre-taxes is not much different from that of the European social democracies, but post-taxes (all taxes) we have the most unequal distribution in the industrialized world.

It is madness to contemplate making major policies changes under the influence of gun pointed towards your head. No hearings….no studies, no testimony from experts on all sides of the questions….

To hell with the debt ceiling—whatever that implies– if this economic terrorism is the alternative. At some point you have to announce you will not be blackmailed into these kinds of procedures/decisions.

The debt ceiling has taken a new dimension this time because never in the history of the country we have reached this level of indebtedness. As such, the crisis is a debt crisis, not a revenue crisis. Undoubtedly increased revenue can help, but not solve the problem.

The so called “balanced” approach that this writer takes on cue from Obama is a red herring for political posturing. There is no economic way that we can close the budget deficits and the debt by increasing revenue through higher taxes by 50% and reducing expenditures by 50%. I think even liberal economists will recognized that fact. So what do they mean by a “balanced” approach? 30-70? 20-80? Empirical analysis of past tax increases and similar tax levels as today will show that the revenue side of the ledger is pretty much maxed up in relation to GDP.

“And let me tell you how”, they continue. Indeed they do by explaining 4 cut principles that besides the obvious of cutting expenditures, they also explain why cutting taxes and cutting regulation will increase growth; and it is growth the complement of cutting expenditures that makes the “balanced” approach feasible.

The US economy, as well as the US government, was overtaken by racketeers; I say this with the deepest of sorrow. We’ve been over-run, pummeled, squeezed, and peeled, particularly since the terrorist attacks here on September 11, nearly a decade ago. The deficit and debt is a single, salient manifestation lending evidence to the claim.

How did it get so bad? In the wise councils of government, didn’t anyone take seriously the prescient warnings of President Eisenhower, as he was leaving office, in 1961? I guess the answer is no; no one did.
Or, if someone did, they were inevitably ignored, or relegated to a storage bin in the basement, or perhaps, wound up not breathing in a dumpster in Delaware.

In any event, there isn’t a clique, individual, or “movement” up to the challenge of staring it all down, and reversing course. This suggests self-ruination, degradation, dissolution, and chaos. We’re in a kind of Zugzwang, where any potential move leaves us more exposed, weaker, and vulnerable to checkmate. Woe is us.

Here’s something from Global research, that my colleagues on this board may want to read:

Lower, or better yet, eliminate the odiously discriminatory regressive and completely purposeless regulatory-tax on bank lending to what is perceived as “risky”, like to small businesses and entrepreneurs, and which translates into a subsidy of the lending to the Government and the AAA rated. http://bit.ly/mQIHoi

1. No *religion* is to continue to be ALLOWED as a means to justify rank depravity. We should NEVER let blood sucking cretins set the boundaries through CENSORSHIP OF TRUTH AND GOODNESS in the public square because the Head Shaman is only allowed to direct a *religious* discussion about WAR. WAR is the suspension of LAW. That’s why it must be a Just War when waged by SANE and CIVILIZED Men of Good Will. And WAR is easy to end. It ends when the Head Kahuna says it’s over. It’s NOT *complicated* at all.

2. Develop a new *currency* to water the needs of Life Maintenance. Let them eat and drink and breathe their nukes and oil and drugs and gold.

3. Stop mindless breeding. Figure out the very REAL man to land ratio and stick below it in population. 100 of us, 1000 buffalo. Northern Europeans went through an intelligent epoch of careful breeding over 1000 years ago to cleanse out the bad strains that came to dominate after Rome fell. Time other old civilizations did their part. No one is going to allow themselves to be eliminated by a morass, not just a mass, of thoughtless humanity looking to steal the fruits of other’s labor. THAT is the real danger that WWIII can become real in a flash – and the fools in D.C. have NO RIGHT to weaken those of us who EARNED the right to our democracy and civilization.

Yup, they’re deploying every dirty trick in the book to hang on to their WAR BOOTY. We need a couple of million people in the USA to stay sober and face REALITY. That FIRE in the belly to hang on to the fruit of HONEST life-maintenance work is every bit as POWERFUL as is their desire to hang on to what they STOLE.

4. Stop screwing around with the real data – hiding FACTS. Science is in SERVICE to mankind. We’ve done the math….a million geek heads have PROVEN their numbers LIE.

Constitutional Convention to forge an *ENERGY* policy. And BURN the Patriot Act.

If I were Head Kahuna for a day, that’s Day 1’s work :-)

Day 2 – War is over. Dogs back on the lease. SIT! Good boy… Now someone get out the pens and paper to sign the treaty.

Woop says “We’ve been over-run, pummeled, squeezed, and peeled, particularly since the terrorist attacks here on September 11, nearly a decade ago.”

You’re right of course, it’s been much more obvious since 9/11/2001, but a lot of the groundwork for this was laid on Clinton’s watch with, for example, NAFTA and the repeal of Glass-Steagall. Woe is us, indeed. And I haven’t even read your Global Research recommendation yet.

Millions and millions of Americans are trying to figure out where to turn, and there is nowhere…who to turn to, and there is no one. It is true, we are going to have to hunker down in our neighborhoods and learn to rely on ourselves and our immediate neighbors. But can it be true that there is no larger community? I don’t want to believe that.

Also the fact that other industrialized nations achieve far higher government revenues as percent of GDP than the US does shows that the revenue side of the ledger has plenty of room to expand if we choose to adopt policies that make it happen.

Where do the payments on this debt come from — both interest payments and payments generally?

Pretty simple: the US government (through the Treasury) credits accounts with money to pay off debts and then issues bonds after the fact.

Until quote-unquote ‘progressives’ realise this they’ll be stuck in an economic rut with nowhere to turn. The lesson is simple: the US government can spend whatever the hell it likes. When it spends dollars — no matter where they come from — they work and people are employed by those dollars. Any other argument is just stupid.

@CBS from the West: Thank you for your response to “goldtracker.” We need to counter these myths about taxation whenever and wherever we can. Not that I would expect someone like “goldtracker” to accept the information…but someone with a more solid grasp on reality might consider it, at least for a moment. Perhaps eventually the moments will add up. Thanks, CBS, for helping the effort along!

Simon, as usual, wonderful job of describing the various factors involved. Of course we all know that there is at least a 95% chance that a resolution will be found between the various forces on the Hill (note that I don’t say parties because each is a mixture of relative viewpoints and ideas), so long as it can be done in such a way as not to put on the proverbial hook any major dogmatic position. There are four major areas in which an agreement should be able to be reached. On the spending side would be the military budget and the entitlement programs, on the revenue side is tax reform and tax reform. Of course everyone who is rational, like the President’s Bowles Commission says, and I agree, that all MUST be ON THE TABLE. The debate though, will point to where this nation is likely going in the future, and all members know that, in many ways, whatever happens will be precedent setting, at least in the establishment of future budgetary constraint philosophy, and that is truly what is making it so hard. I was watching the NewsHour this evening, and in its very first segment, it highlighted what was seen as a “positive meeting” at the White House today between the major players. The most notable comment offered by the NH “experts” was the recent polls show that almost 75% of the American public favors changes in revenue vastly over entitlement “reform.” That number holds in the same percentages regardless of party affiliation. This is something that the GOP and Norquist are going to have to adjust to. The question is, just how to increase revenues while leaving tax rates unchanged, because there are ways, and those are going to figure into the solution, mark my words.

“How can we find our way to fiscal responsibility? We need tax reform.”

We need to elect responsible politicians. (Yeah, I know, fat chance.)

The Republicans, in particular, have made no secret of their fiscal irresponsibility, with their Two Santa Claus strategy and their Starve the Beast strategy. What we are seeing now is the culmination of those strategies, to which the Dems have not raised much of a defense.

e pearse: “The debt ceiling has taken a new dimension this time because never in the history of the country we have reached this level of indebtedness. As such, the crisis is a debt crisis, not a revenue crisis. Undoubtedly increased revenue can help, but not solve the problem.”

The debt ceiling has taken on a new dimension this time because of the Republican Starve the Beast strategy. Nice economy you got here, too bad if sumpn was to happen to it. Increased revenue would help? Well, that just shows that the debt ceiling fracas is not about reducing the debt or deficit, is it? Or else the Congress would already have raised the top tax rates for the future. Wouldn’t they?

It’s all a show, folks. (That doesn’t mean that default is not part of the show, however.)

You want to honor our fiscal commitments without raising the debt ceiling? Mint a few hundred billion in platinum coins. (See USCode Title 31.)

Chris: “It would be much fairer if, like Mr. Keynes envisioned there was a one world reserve currency. This could be administered by a non-profit body like the U.N. or an IMF with a farier structure and a meritocracy.”

And how is the Euro working out for ya? During the Great Depression countries could, and did, go off of the Gold Standard. It is harder to go off of the Euro.

“The third position is that the US cannot default on its debts. There are various explanations, mostly having to do with the fact that long-term interest rates are currently at their lowest in 50 years.”

The most important reasons are constitutional and legal. One of the earliest laws passed in the new republic was one saying that the first obligation of the gov’t was to pay its debts. After the Civil War, the Fourteenth Amendment made the obligation to pay gov’t debts constitutional. As for the ability to pay its debts denominated in US$, the US has a fiat currency. In addition, Congress has enabled the Treasury to mint platinum coins of any denomination as needed. The only reason for the US to default is if crazy politicians do so.

The concept of tax reform for the purpose of raising revenue is no good unless a balanced budget amendment is included. Otherwise tax reform and increased revenue will only give politicians more money to spend. Consumption tax is a potential idea however I prefer a flat tax with the percentage based on income. Also, the tax breaks that many corporations currently enjoy must be repealed. Lastly we need to withdraw our troops from Iraq and Afghanistan and stop waiting trillions on these useless wars.

The brave leaders (I mean the whole beggard bunch) will stall for time and pass an increase while taking several (?) months more to get to the bare bones of actually cuttng $4 tn.from the $14.3 tn. total deficit. This is laughable,… my tears are dry from laughing outloud – in retrospect I hold my head down in shame for what our great country has now become. Where once a politician could/ would speak his mind, and now the truth is an accepted, and quantified “Nixonian Lie”! Saving oneself from political suicide is the rationale of a inbred “Washingtonian Madman” feeding on fiat opium laced steroids – now the norm, and all the world knows,… other than the poor populus of america that lives or once had lived in denial but now find their personal morass all steep in economic quicksand. Whose actually to blame? Seemingly we all got ours and greedily cared not for others,… now the mirror of the past is exposing the others,… unfortunately the others are us! (JMHO)

PS. Not to be overly pius, but we,… “All American’s”, deserve our just dessert!

The 4th camp is called Modern Monetary Theory, which mainstream economists ignore because it doesn’t fit the Calvinist narrative their sponsors pay them to advance in order to prevent the public from wild spending on ridiculous things like education and health for the plebiscite.

The actual question should be how would such a default take place? Who would buy the worthless debt and with what?? Many countries could be eliminated but few could/would be considered a canditate to do so. A small or island nation simply doesn’t have the resources to overwhelm a larger one. Or if they do it would be a knock out blow, rather than a political solution. And we are living the alternative, a world of competeing forces with money. Causing price inflation as we slowly slip into a deflationary phase, or a stimulative one to keep up with the Jones’s.

I agree with this post, and I really appreciate your work. I see that you are testifying on tax matters this week. Please consider advancing this innovative proposal by David S Miller:

“A mark-to-market tax on the publicly-traded securities of the highest-income and wealthiest individuals would . . . [help] level the playing field between wage and income earners (who are currently subject to tax at ordinary income rates on all or virtually all of their economic income) and with investors (who defer tax indefinitely on appreciation and, when taxed, pay it at reduced long-term capital gains rates).”

Zeitgeist: Moving Forward, by director Peter Joseph, is a feature length documentary work which will present a case for a needed transition out of the current socioeconomic monetary paradigm which governs the entire world society.

This subject matter will transcend the issues of cultural relativism and traditional ideology and move to relate the core, empirical “life ground” attributes of human and social survival, extrapolating those immutable natural laws into a new sustainable social paradigm called a “Resource-Based Economy”. (Excerpt from main website)

For goodness sake, you’re supposed to be smart….The tea party pod people will not allow any tax increase…the left will not allow any attack on the safety net.
Batten down the hatches…grab the ol’ ladies and pack up the the babies…and grab a good seat. This is how things end and things start.
Peace

The Federalist Party of old,… the Whig Party soon to follow – thusly bringing about the Republican Party of “Neo-New?” which has bifurcated into the Neo-Conservative Libertarian (Hard Core/ Ultra Hard Core Conservative Republican Party – don’t let the wording fool ya folks!) Party going full circle ? Yes, indeed, right back into the fold of a “Purist (Rejected & Dangerous precedence)Federalist Party”, overwhelmingly sent to the permanent trash bin by a disillusioned growing populus of Americans long ago for good reason. What’s that old saying,… “forget the past relive the consequences”, indeed, is where were at with the fanatical types such as US Senator Rand Paul (L/ Ky)!

David Brooks was right when he wrote last week that the Republican Party is degenerating into a Regressive Party thats lost its way,… a past/present Federalist/Whig/Libertarian Party!

“They’re bamboozling us, and Obama is betraying us: failing to use the bully pulpit to shame the GOP, he caves instead on core social justice issues. Let me repeat …They’re bamboozling us. And Obama is betraying us.”

“Obama is failing to use his bully pulpit to shame the GOP with its ridiculous attempt to double-down on failed right-wing friedmania economic fundamentalism.”

When one side is largely a captive of the wealthiest 1% of the country, and the other side is completely a captive, it’s not hard to see how this will turn out. In the end, marginal tax rates will stay at their historically low levels, significant spending cuts will happen (mostly concentrated on services used by the people who can’t afford to buy politicians) and we will continue our march towards the extremes of banana republic national income distribution.

The poor by and large will always find ways to stay poor. You can and should work to salvage those who can be salvaged, but you can’t educate people who don’t want an education and you can’t employ people who would rather get high than work. What’s been happening for the last thirty years, however, is that the interests of the middle class, the people who are trying to play by the rules, the people who made this country, are being systemically and comprehensively sacrificed to the interests of the wealthiest percent or so of the country.

Either way, what Greece does will have implications for the rest of Europe–and for us. As NPR’s Jacob Goldstein says, interbank lending between various European nations, and the US, “looks like a web made by an insane spider”.

PS. On a lighter note I have some “Gullible” quotes from Chatham, Mass. (cartoon, “Seagull” captions) by Rosemary de Ganahl (25 years)

“Presidential projects seem to go in Congress as steak and come out as hamburg”
(Gulls reading local newspaper)
“I hear the government is going to spend $19 million to study ‘Cow Emissions’! I hope they never find out about us.” (Gulls talking amongst themselves)
“What happened to Self Control”? Government Prevention Programs about,… Rage,… Tobacco,… Drugs,… Hate Crimes,… Gun Control,…?” (Group of Gulls quetioning beach side ethics)

What I find amazing is the recognition that stagnant and falling wages are part of the problem. Whatever wealth is being created stateside is disproportionately going into the bank accounts of those who already have more than they need. The effect of flat or falling wages is the reality that over 40% of households pay not income tax. If workers pay had kept pace with inflation, they would be contributing to revenues and not require subsidy. What we have lost in this nation is not proper sense about economics but the larger awareness of a common society in which the general well being is at issue.